Bad money drives out good

“Bad money drives out good” is a concept in economics known as Gresham’s Law.
Updated: May 29, 2024

3 Key Takeaways

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  • Gresham’s Law states that bad money drives out good money.
  • This occurs when two currencies with the same face value but different intrinsic values are in circulation.
  • People tend to spend the lower-value currency and hoard the higher-value currency.

What is Gresham’s Law?

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Gresham’s Law, named after Sir Thomas Gresham, a 16th-century English financier, describes the phenomenon where, in a bimetallic or other multi-currency system, the less valuable currency tends to drive the more valuable currency out of circulation. This occurs because people naturally prefer to spend the less valuable currency and save or hoard the more valuable one.

Importance of Gresham’s Law

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  • Monetary History: Gresham’s Law helps explain historical episodes of currency debasement and the circulation of counterfeit or devalued coins.
  • Economic Policy: Understanding Gresham’s Law is crucial for policymakers designing monetary systems, as it highlights the importance of maintaining the intrinsic value and credibility of currency.
  • Currency Competition: It can also be applied to the competition between different forms of money, such as fiat currencies and cryptocurrencies, where the more stable and reliable currency may be preferred for saving and investment.

Real-World Applications

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Gresham’s Law has been observed in various historical and modern contexts.

For example, in ancient Rome, the silver denarius coin was gradually debased by reducing its silver content. As a result, people hoarded the older, higher-quality denarii and used the newer, debased coins for transactions.

In modern times, Gresham’s Law can be seen in the context of hyperinflation, where people quickly spend the rapidly depreciating currency and hoard more stable assets like foreign currencies or gold. Additionally, the rise of cryptocurrencies like Bitcoin, with their limited supply and perceived store of value, can be seen as an example of Gresham’s Law in action, as some investors choose to hold these digital assets rather than traditional fiat currencies.

Understanding Gresham’s Law can help investors and policymakers make informed decisions about currency choices, monetary policy, and financial stability. It highlights the importance of maintaining the intrinsic value and credibility of currency to ensure its acceptance and continued circulation in the economy.

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